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Case studies Case 1 Pace Leisurewear plc (1) Case 2 Carpetright plc Case 3 Gadabout Travel Ltd Case 4 Pace Leisurewear plc (2) Case 5 Landlord: investment appraisal Case 6 Blue Hills Country Park Case 7 Homeland plc

You may be required to undertake a case study for at least one of your assignments. A case study tends to differ from the more traditional accounting exercise in three ways:

• Cases tend to be longer and more complex than traditional exercises. They also tend to deal with more than one aspect of a business.

• Cases often contain information that is irrelevant and that needs to be ignored.

• There is no one single, correct solution. The proposed solution will rely on assumptions and judgements made by the student.

In these ways, case studies reflect real life. In reality, problems are often complicated, multi­faceted and you may have to separate out the relevant from the irrelevant data. Often there is no uniquely correct solution. Thus case studies can provide an opportunity to handle much more realistic and interesting problems than can traditional exercises.

A difficulty with case studies is that the problem to be solved is not always obvious or clear­cut. It is therefore a good starting point to try to identify what the problem really is. You must be able to distinguish between the causes of the problem and its symptoms. For example, a fall in profitability may be a symptom of some underlying cause such as a poor pricing policy.

Try not to waffle. It is important to get to the point. Marks in an examination when dealing with a case study are usually awarded for a clear and concise explanation of the problems and any proposed solutions; long, tortuous explanations may indicate that you have not got to the heart of the matter. Furthermore, do not include large chunks of the case study in your final report or presentation. This, too, may suggest that you have not grasped the key issues and that you are simply repeating rather than using the information provided.

Working in groups is sometimes an effective way to approach solving a case study. This is because people can ‘spark off’ each other to come up with ideas that could help towards a solution. Do not be too quick to dismiss ideas from others that do not run along lines you have already developed, and do not be critical of ideas that come from individuals who are not seen as the academic ‘high flyers’. Good

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ideas do not always come from expected sources. The more supportive the group is towards all its members, the more likely it is to work effectively and arrive at a feasible solution.

Sometimes an assignment involves giving a presentation. If this is the case, thought must be given to how the solution is to be presented to make the maximum impact on the audience. This may mean the use of overhead projector slides or even of video, depending on the circumstances. Check with your tutor about the availability of necessary equipment.

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1 Pace Leisurewear Ltd (1) ‘This is absolutely typical of British banks. As soon as you have any success they want to pull the plug and stop you trading.’ Jill Dempsey was very angry. She is the managing director of Pace Leisurewear Ltd and had just received a letter from the company’s bank requiring a significant reduction in the overdraft. ‘This is ridiculous,’ agreed Mike Greaves, the production director. ‘Last year we had a cracking year and it looks set to continue. We had a big order in from Arena just this morning. If we can’t keep up the overdraft, we won’t be able to fulfil that order.’ Arena was one of several national chains of casual and sportswear stores that was placing substantial orders with Pace, usually to be sold under the Pace label but in some cases under the stores’ own­brand label.

Pace Leisurewear Ltd was started by Jill Dempsey and Mike Greaves five years ago. The business is a designer and manufacturer of casual and leisure clothes aimed particularly at the younger, higher­income market. Before starting the company, both had been employed as senior managers with Verani plc, a large UK clothes manufacturer. They decided to form Pace Leisurewear after their ideas for developing a new range of clothes for younger people had been rejected by Verani. Although their former employer liked the ideas proposed, it was restructuring its operations after three consecutive years of losses and had decided to focus on certain core brands aimed at meeting the needs of older people requiring smart day and occasion wear. The proposals by Jill and Mike did not, therefore, fit with the strategies that Verani had just begun to implement.

From the outset, Jill and Mike decided that Pace Leisurewear would be a design­ and­marketing led business. Both felt that many of the problems experienced by Verani could be traced to weaknesses in these areas and they were determined that this would not occur in their newly formed business. Much of the forward planning was concerned with integrating the product design and development with the sales and marketing operations of the business. The new company had taken a lot of trouble and spent a lot of money on employing a young and talented design team, led by Jane Barker who had been employed previously as a chief designer for a leading sportswear brand. The range of clothes designed by Jane and her team was greeted with enthusiasm by the major buyers, and this was converted into firm orders by the marketing team led by Jill Dempsey. The order book began to grow and, for the new season, orders had reached their highest level ever.

Pace Leisurewear began trading during a period of recession when people did not have a great deal of money to spend on clothes. However, sales started to increase significantly as the economy began to come slowly out of recession and as export markets in France and Switzerland were opened. Jill and Mike were both surprised and delighted by the speed with which the sales of the business had grown in recent years and by the growing base of regular customers. The order just received from Arena was seen as particularly important. If Arena became a regular customer, the sales of the company were likely to increase rapidly over the next few years and would establish Pace Leisurewear as a major player in the market.

Jill and Mike had both invested their life savings in the business and had taken out large mortgages on their respective houses to help finance the new company.

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However, this provided only a relatively small amount of the total ordinary share capital needed. In order to raise the remaining share capital, friends, family and business contacts were approached. The largest shareholder of the business was Keeble Estates Ltd, owned by David and John Keeble. The two Keeble brothers had made large profits by land speculation over the years but were keen to diversify into other areas as their business had been particularly hard hit by the recent recession. They had known Jill for many years and were convinced that she and Mike would make a success of the new business.

The board of directors of Pace Leisurewear Ltd and their shareholdings were as follows:

Jill Dempsey Managing director and marketing director (350,000 shares) Mike Greaves Production director (350,000 shares) Jane Barker Design director (20,000 shares) David Keeble Chairman (1,000,000 shares owned jointly with brother John

through Keeble Estates) John Keeble Non­executive director

In addition to his role as production director, Mike tended to look after financial matters. Though the company had accounts staff who dealt with the day­to­day transactions, there was no one within the company who had any great financial expertise. When there was a problem, the company’s auditors were normally asked for advice.

On the day that the letter from the bank was received, a board meeting was due to take place to consider the draft accounts of the business for the year that had ended two months earlier. At this meeting, the letter from the bank was also distributed to board members for discussion.

Mike Greaves began the discussion by saying:

We’ve just received the draft accounts from the auditors, which seem to confirm our success. Profit has more than doubled. I really can’t see how the cash situation is so poor. I know that we spent a lot on that additional plant and that we didn’t get anything from the old machines we got rid of, but most of that was covered by the bank loan. Really, the cash situation should be even better than the profit level implies because the expenses include about £2.8 million for depreciation and we don’t have to write a cheque for that.

Jill Dempsey, who was still angry at what she regarded as the high­handed attitude of the bank, pointed to the difficulties that the bank’s demands would cause:

The bank wants us to reduce the overdraft by half over the next six months! This is crazy. I tried to explain that we have important orders to fulfil but the manager wasn’t interested. How on earth can we find this kind of money in the time available? We are being asked to do the impossible.

Both Mike and Jill had, before the meeting, hoped that the Keeble brothers would be prepared to help out by purchasing further shares in the company or by making a loan. However, it was soon made clear by David Keeble that further investment was not a possible option. Keeble Estates had been experiencing considerable problems

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over recent years and simply did not have the money to invest further in Pace Leisurewear. Indeed, the Keeble brothers would be prepared to sell their shares in Pace to generate much­needed cash for their ailing company.

Finding a prospective buyer for the shares was not, however, a likely prospect at this point. Both David and John Keeble had been heavily involved in recent years with the problems of Keeble Estates and had taken little interest in the affairs of Pace Leisurewear. The board meeting made them realise that they should have been much more attentive, and they now faced the prospect of being major shareholders of two failed companies unless things could be radically improved.

The accounts of Pace Leisurewear for the past two years are set out below.

Profit and loss account for the year ended 31 December:

Year before last Last year £000 £000

Turnover 14,006 22,410 Cost of sales 7,496 11,618

Gross profit 6,510 10,792 Operating expenses 4,410 6,174

Operating profit (before interest and taxation) 2,100 4,618 Interest payable 432 912

Profit before taxation 1,668 3,706 Taxation 420 780

Profit after taxation 1,248 2,926 Dividend paid and proposed 600 800

Retained profit for the year 648 2,126 Retained profit brought forward from previous year 2,626 3,274

Retained profit carried forward 3,274 5,400

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Balance sheet as at 31 December:

Year before last Last year £000 £000 £000 £000

Fixed assets 8,600 14,470 Current assets Stocks 2,418 5,820 Trade debtors 1,614 3,744 Other debtors 268 402 Cash 56 8

4,356 9,974 Creditors: amounts falling due within one year Trade creditors 1,214 2,612 Other creditors 248 402 Taxation 420 780 Dividends 600 800 Bank overdraft — 4,250

2,482 8,844 Net current assets 1,874 1,130

10,474 15,600 Creditors: amounts falling due within one year Loan capital 3,600 6,600

6,874 9,000 Capital and reserves Ordinary shares of £0.50 each 3,600 3,600 Retained profit 3,274 5,400

6,874 9,000

The board of directors was not able to agree on a way of dealing with the financial problem faced by the company. Jill believed that their best hope was to continue to wrangle with the bank over its demands. She felt that there was still a chance that the bank could be persuaded to change its mind once the draft accounts for last year were made available and once the bank was informed of the implications for the company of paying off such a large part of the overdraft in such a short period of time. Mike and Jane, on the other hand, were not optimistic about the prospects of changing the bank’s position. The company had breached its overdraft limit on several occasions over the past few years and they knew that the patience of the bank was now wearing thin.

The directors believed that the only real solution was to look for someone who was prepared to make a significant investment in the business. They felt that only a large injection of new funds could keep the business on track. Like Jill, the other board members believed that the draft accounts demonstrated the success of the business over recent years and that this evidence would make the business attractive to a potential investor. The Keeble brothers rejected both of these views

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as being impractical. In addition, they were against the idea of introducing another major shareholder to the company as this was likely to dilute their influence over the future direction of the business. The brothers believed that drastic and immediate action was required by the board, although they were not sure what form of action should be taken.

After several hours of discussion, it was clear that the financial issue was not going to be resolved at the meeting. Instead, it was agreed that expertise from outside the company should be sought to help the company find a feasible solution to the problem. The board decided to approach Drake Management Consultants, which specialises in helping businesses with financial problems, and to ask the firm to produce a plan of action for the board’s consideration. Jill agreed to contact the firm of consultants on behalf of the board and to agree the terms of reference for the work required. She was, however, apprehensive about what the proposed plan of action would contain. Immediately after the board meeting she discussed her concerns with Mike. She said, ‘It seems we have to pay a penalty for our success. I only hope this penalty won’t involve undoing all our good work over the years.’

Required: Assume that you are a member of Drake Management Consultants. Prepare a report for the board of directors of Pace Leisurewear Ltd that analyses the problems faced by the company and that sets out a detailed plan of action for dealing with its financing problem.

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2 Carpetright plc Carpetright plc is a carpet retailer that operates a network of stores throughout the UK and aims to be the largest and most profitable carpet retailer in the UK. The market for floor coverings has not been very buoyant in recent years and for Carpetright’s year ended 26 April 2001 there was no growth in the market at all.

Given the general state of the market and the ambition of the business, Carpetright has committed itself to increasing sales by increasing its share of the floor coverings market. At present, the UK market is very fragmented, with around 60 per cent of the total market being supplied by thousands of small independent retailers.

The company operates through four trading formats:

• Carpetright is a value­for­money trading format aimed at the lower and middle sectors of the market.

• Carpet Depot is a superstore and showroom format offering a wide range of more expensive and branded products.

• Harris Carpets (named after the Chairman of Carpetright plc, Lord Harris) operates from high street and out­of­town sites.

• Harris Carpet at home aims to compete with the high street for the 50 to 60 per cent of shoppers who do not buy their floor coverings in out­of­town centres and operates from 17 vans.

By the end of April 2001, the company had 325 stores in total, compared with 321 at the previous year­end.

The profit and loss account and cash flow statement for the year ended 26 April 2001 and the balance sheet at that date are shown below, along with extracts from the notes to these accounts.

Required: From the information provided, comment on the financial performance and position of Carpetright plc for the year ended 28 April 2001 from the viewpoint of:

(a) A private shareholder who holds 1 per cent of the ordinary shares. (b) A carpet manufacturer which has been asked to supply the company with a

large quantity of carpets on credit.

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Profit and loss account for the year to 28 April 2001

Year to Year to 28 April 2001 29 April 2000

Note £’000 £’000 Turnover 1, 2 322,917) 304,818) Cost of sales (138,275) (140,610)

Gross profit 184,642) 164,208) Distribution costs (3,440) (2,488) Administrative expenses (137,499) (125,560) Other operating income 974) 693)

Operating profit 44,677) 36,853) Profit on disposal of fixed assets 154) 38) Net interest payable 3 (279) (334)

Profit on ordinary activities before taxation

3 44,552) 36,557)

Tax on profit on ordinary activities 5 (12,837) (10,944)

Profit for the financial period 31,715) 25,613) Dividends — paid and proposed 6 (20,428) (17,927) Retained profit for the period 14 11,287) 7,686)

pence pence Basic earnings per share 7 42.0 33.3 Diluted earnings per share 7 41.9 33.3

There are no differences between the Company’s historical cost profit and that recorded in the profit and loss account (2000: £nil).

All turnover, operating profit and the profit on disposal of fixed assets of the Company arise from continuing operations.

Statement of total recognised gains and losses for the year to 28 April 2001 £’000 £’000

Profit for the financial period 31,715 25,613 Exchange rate movement 14 1 — Total recognised gain relating to the year 31,716 25,613

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Balance sheet at 28 April 2001

28 April 2001

28 April 2001

29 April 2000

29 April 2000

Note £’000 £’000 £’000 £’000 Tangible fixed assets 8 90,297) 70,986) Current assets Stocks 9 28,453) 22,268) Debtors 10 11,144) 11,783) Cash at bank and in hand 16,220) 8,565)

55,817) 42,616) Creditors: amounts falling due within one year

11 (93,474) (75,239)

Net current liabilities (37,657) (32,363) Total assets less current liabilities

52,640) 38,363)

Creditors: amounts falling due after more than one year

12 (4,699) (2,674)

Provisions for liabilities and charges

13 (332) (111)

Net assets 47,609) 35,578) Capital and reserves Called up share capital 14 756) 755) Share premium account 14 12,395) 11,653) Capital redemption reserve 14 42) 42) Profit and loss account 14 34,416) 23,128) Equity shareholders’ funds 47,609) 35,578)

These accounts were approved by the Board of Directors on 25 June 2001, and were signed on its behalf by: Lord Harris of Peckham S J Winning Directors

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Cash flow statement for the year to 28 April 2001

Year to Year to Year to Year to 28 April

2001 28 April

2001 29

April 2000

29 April 2000

Note £’000 £’000 £’000 £’000 Net cash inflow from operating activities

20 58,832) 47,129)

Returns on investments and servicing of finance Interest received 286) 99)

Interest paid (243) (408) Interest on finance leases (300) (158) Net cash outflow from investments and servicing of finance (257) (467) Taxation UK Corporation Tax paid (10,504) (5,597) Tax paid (10,504) (5,597) Capital expenditure Payments to acquire tangible fixed assets

(23,624) (7,783)

Receipts from sales of tangible fixed assets

1,092) 3,649)

Net cash outflow for capital expenditure

(22,532) (4,134)

Equity dividends paid (18,515) (17,590) Net cash inflow before financing

7,024) 19,335)

Financing Issue of Ordinary shares 743) 197) Purchase of own shares — (7,961) Capital element of finance lease rentals

(1,218) (531)

Net outflow from financing (475) (8,295) Increase in cash in the period

6,549) 11,040)

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Note — Reconciliation of net cash flow to movement in net funds

2001 2000 £’000 £’000

Increase in cash in the period 6,549) 11,040) Opening net funds/(debt) 5,119) (2,475)

11,668) 8,565) Exchange difference 3) —) Finance leases (3,369) (3,446) Closing net funds 8,302) 5,119)

Note — Analysis of changes in net funds during the year

Exchange 2000 Cash flow Other difference 2001 £’000 £’000 £’000 £’000 £’000

Cash at bank and in hand 8,565) 7,652) — 3 16,220) Overdraft —) (1,103) — — (1,103)

8,565) 6,549) — 3 15,117) Finance leases (3,446) 1,218) (4,587) — (6,815) Net funds 5,119) 7,767) (4,587) 3 8,302)

Notes to the accounts

1 Principal accounting policies (a) Accounting convention The Accounts are prepared under the historical cost convention and in accordance with applicable accounting standards. The following accounting policies have been applied consistently in dealing with items which are considered material in relation to the Company’s financial statements.

(b) Turnover Turnover represents the value of goods sold to customers excluding value added tax.

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(c) Depreciation Depreciation is provided to write off the cost of fixed assets on a straight line basis over their estimated useful lives as follows:

Freehold and long leasehold buildings 2% p.a. Short leasehold buildings Length of lease Fixtures and fittings 10% to 15% p.a. Plant and machinery 10% to 15% p.a. Computers 15% to 20% p.a. Motor vehicles 25% p.a.

Freehold land is not depreciated.

(d) Stock Stock is valued at the lower of cost and net realisable value.

(e) Deferred taxation Deferred taxation is calculated under the liability method and is only provided where there is a reasonable probability that a liability will crystallise.

(f) Leased assets Assets financed by leasing agreements that give rights approximating to ownership are held under finance leases and included in tangible fixed assets and depreciated over the shorter of their estimated useful lives or the period of the lease. Rentals are apportioned between reductions in the capital obligations included in creditors and those amounts relating to finance charges, which are charged to the profit and loss account at a constant periodic rate of charge. All operating lease rentals are written off to the profit and loss account on a straight line basis over the term of the lease. Income under operating leases is credited to the profit and loss on a receivable basis.

(g) Pensions The Company operates a defined benefit pension scheme. The cost of providing pension benefits is spread over the expected working lives of pension scheme members. The Company also operates a defined contribution scheme, contributions to which are charged against profits as they become payable.

(h) Accounting for new stores Benefits received as incentives to sign leases, in the form of reverse premiums and post­opening rent free periods, are spread on a straight line basis over the period to the first rent review. Pre­opening costs are expensed to the profit and loss account as incurred.

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(i) Foreign currency The results of overseas operations are translated at the average rate of exchange during the period and the balance sheet at the rate ruling at the balance sheet date. Exchange differences arising on the translation of opening net assets are dealt with through reserves. In addition, exchange differences between the results translated at an average rate and a closing rate are dealt with through reserves.

2 Segmental analysis Turnover is attributable to carpet retailing activities in the UK and Southern Ireland. No analysis of turnover, operating profit or net assets is shown because Southern Ireland does not represent a material part of the results or assets.

3 Profit on ordinary activities before taxation Profit on ordinary activities before taxation is stated after charging:

2001 2000 £’000 £’000

Depreciation 8,147 7,547 Auditors’ remuneration Audit work 55 56 Non­audit fees paid to the auditors and their associates 16 12

Amounts payable under operating leases Rents 37,066 35,345 Plant and machinery 522 424

Interest on bank overdraft 66 289 Interest on finance leases 300 158 Other interest 146 39 And after crediting: Rent receivable 974 693 Interest receivable 233 152

4 Staff and directors The average number of persons employed by the Company (including Directors) was as follows:

2001 2000 Number Number

Stores 2,677 2,489 Head Office and Warehouse 216 194

2,893 2,683

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The aggregate payroll costs of these persons were as follows:

2001 2000 £’000 £’000

Wages and salaries 47,498 41,714 Social security costs 4,046 3,630 Pension costs 682 561

52,226 45,905

5 Tax on profit on ordinary activities

2001 2000 £’000 £’000

UK Corporation Tax at 30% (2000: 30%) 13,389 11,020 Over provision in prior period (552) (76)

12,837 10,944

6 Dividends

2001 2000 £’000 £’000

Ordinary Paid — 11p (2000: 10p) per share 8,316 7,736 Proposed — 16p (2000: 13.5p) per share 12,102 10,189 Under provision in prior period 10 2

20,428 17,927

7 Earnings per share The calculated basic and diluted earnings per share for the year to 28 April 2001 is based on earnings of £31,715,000 (2000: £25,613,000).

The weighted average number of shares used in the calculation of basic earnings per share for the year to 28 April 2001 was 75,541,628 (2000: 76,972,848). The weighted average number of shares used in the calculation of diluted earnings per share was 75,624,153 (2000: 77,040,558).

Share options outstanding at less than fair market value of 82,525 (2000: 67,710) represent the difference between the basic and diluted weighted average number of shares.

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8 Tangible fixed assets

Long Freehold leasehold Short Fixtures land and land and leasehold and Plant and buildings buildings buildings fittings machiner

y Total

£’000 £’000 £000 £000 £’000 £’000 Cost: At 29 April 2000 25,357 3,394 10,610) 51,852) 13,872) 105,085) Additions 11,803 — 2,335) 8,310) 5,852) 28,300) Disposals — — (270) (1,390) (318) (1,978) At 28 April 2001 37,160 3,394 12,675) 58,772) 19,406) 131,407) Depreciation: At 29 April 2000 847 64 1,897) 26,374) 4,917) 34,099) Charge for period 312 25 570) 5,762) 1,478) 8,147) Disposals — — (71) (879) (186) (1,136) At 28 April 2001 1,159 89 2,396) 31,257) 6,209) 41,110) Net book value: At 28 April 2001 36,001 3,305 10,279) 27,515) 13,197) 90,297) At book value: At 29 April 2000 24,510 3,330 8,713) 25,478) 8,955) 70,986)

Computer equipment capitalised under finance leases

2001 2001 2000 2000 Cost Depreciation Cost Depreciation £’000 £’000 £’000 £’000

Cost and depreciation included in plant and machinery above

8,564 — 3,977 —

Depreciation charge for the year

— 143 — —

If the total freehold land and buildings and long leasehold land and buildings are valued at £40,554,000 at 28 April 2001, the building element subject to depreciation is £18,053,000.

9 Stocks All stock is held in the form of finished goods for resale.

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10 Debtors

2001 2000 £’000 £’000

Amounts falling due within one year: Trade debtors 3,033 2,442 Other debtors 371 512 Advance Corporation Tax recoverable — 1,110 Prepayments and accrued income 7,740 7,719

11,144 11,783

11 Creditors: amounts falling due within one year

2001 2000 £’000 £’000

Bank overdraft 1,103 — Obligations under finance leases 2,116 772 Trade creditors 42,962 38,399 Accruals and deferred income 18,081 12,173 Ordinary Dividends payable 12,102 10,189 VAT 7,432 5,115 Corporation Tax payable 8,485 7,483 PAYE and National Insurance 1,193 1,108

93,474 75,239

The Company’s unsecured bank overdraft is repayable on demand and carries a commercial interest rate which moves in line with the Bank of England base rate. A UK facility of £20,000,000 will be reviewed on 18 July 2001 and an Irish Punt facility of £1,500,000 will be reviewed on 31 October 2001. Both facilities are reviewed annually.

The Company has excluded short term debtors and creditors from all financial instrument disclosures.

12 Creditors: amounts falling due after more than one year

2001 2000 £’000 £’000

Obligations under finance leases 4,699 2,674

The maturity of obligations under finance leases are all payable between two and five years.

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13 Provisions for liabilities and charges Amounts provided and unprovided in respect of deferred taxation are set out below:

2001 2001 2000 2000 Provided Unprovided Provided Unprovided

£’000 £’000 £’000 £’000 Accelerated capital allowances

332 2,079 332) 2,012

Capital gains rolled over — 2,100 — 1,984 332 4,179 332) 3,996

Advance Corporation Tax — — (221) — recoverable

332 4,179 111) 3,996

The movements on the deferred tax account are set out below:

£000 At 29 April 2000 111 Advanced Corporation Tax recoverable 221 At 28 April 2001 332

14 Share capital and reserves

2001 2000 Ordinary shares of 1p each £ £ Authorised — 100,000,000 (2000: 100,000,000) 1,000,000 1,000,000 Issued and fully paid — 75,640,243 (2000: 75,471,978) 756,402 754,720

The movement in share capital, share premium account and profit and loss account comprises:

Share Capital Profit Share premium redemption and loss Shareholders’ capital account reserve account funds £’000 £’000 £’000 £’000 £’000

Balance at 29 April 2000 755 11,653 42 23,128 35,578 Issued share capital 1 742 — — 743 Exchange rate movement — — — 1 1 Retained profit for the period — — — 11,287 11,287 Balance at 28 April 2001 756 12,395 42 34,416 47,609

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Reconciliation of movements in shareholders’ funds

2001 2000 £’000 £’000

Profit for the financial period 31,715) 25,613) Dividends (20,428) (17,927) Retained profit for the period 11,287) 7,686) Exchange rate movement 1) —) Issue of Ordinary shares 743) 197) Purchase of own shares —) (7,961) Net increase/(decrease) in shareholders’ funds 12,031) (78) Shareholders’ funds at 29 April 2000 35,578) 35,656) Shareholders’ funds at 28 April 2001 47,609) 35,578)

At 28 April 2001 options over Ordinary shares under the Carpetright Executive Share Option Scheme were outstanding as follows:

First Last Exercise price Ordinary exercise exercise per Ordinary Shares date date share (pence) 1,689 June 1996 June 2003 148 15,000 February 1999 February 2006 442 35,107 July 2000 July 2007 471 181,400 October 2000 October 2004 512 26,557 October 2000 October 2004 527 5,693 October 2000 October 2007 527

115,000 January 2002 January 2006 221 11,152 January 2003 January 2010 538 8,848 January 2003 January 2007 538 34,760 January 2004 January 2011 504 20,240 January 2004 January 2008 504

During the period 168,265 Ordinary shares were issued in consequence of the exercise of options under the Executive Share Option Scheme for a total consideration of £743,284.

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15 Financial commitments (a) Capital commitments Capital commitments at 28 April 2001 for which no provision has been made in the Accounts were as follows:

2001 2000 £’000 £’000

Authorised and contracted 3,835 4,477

Of the above capital commitments contracted for but not provided, £1,674,000 (2000: £2,601,000) relates to the development of retail merchandise management systems, which has been fully funded by a leasing facility provided by Siemens Finance Limited following the period end.

(b) Operating leasing commitments At 28 April 2001 the annual commitments in respect of land and buildings and other assets under operating leases were as set out below:

2001 2000 Land and 2001 Land and 2000 buildings Other buildings Other

£’000 £’000 £’000 £’000 Operating leases which expire: Within one year 75 18 201 69 Between one and five years 182 440 174 159 Over five years 41,822 — 33,325 —

42,079 458 33,700 228

16 Financial instruments Details of financial risk management and interest rate policies are contained in the Directors’ report.

(a) Currency exposure Net monetary assets and liabilities of the Company that are not denominated in the local functional currency are as follows:

Net foreign currency monetary assets and (liabilities)

2001 2000 £’000 £’000

Irish punt (1,688) —

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17 Subsidiary undertakings At 28 April 2001 the Company had nine wholly owned subsidiary undertakings as follows:

Issued Ordinary Country of share capital incorporation

£ Carpet Depot Limited 2 Great Britain Carpetright of London Limited 2 Great Britain Harris Beds Limited 2 Great Britain Harris Carpets at home Ltd 2 Great Britain Harris Carpets Limited 2 Great Britain Harris Carpets Direct Limited 2 Great Britain harriscarpetsdirect.com Limited 2 Great Britain Harris Furnishings Limited 2 Great Britain Premier Carpets Limited 2 Great Britain

Each subsidiary undertaking has never traded and is dormant for Companies Act purposes. Given the immateriality of these undertakings, group accounts have not been prepared.

18 Contingent liabilities There were no contingent liabilities requiring disclosure at the year end (2000: £nil).

19 Pensions costs The Company operates a pension scheme providing benefits based on final pensionable pay. The assets of the scheme are held separately from those of the Company, being invested in a Managed Fund operated by the Clerical Medical Investment Group. The contributions are determined by a qualified actuary using the projected unit method. The most recent actuarial review was at 6 April 1999 when the market value of the fund was £3,154,536 excluding the value of any Additional Voluntary Contributions and at which date the actuarial value of the assets represented 106% of the benefits accrued to members after allowing for expected future increases in earnings. The assumptions which have the most significant effect on the results of the valuation are that the yield on the fund exceeds salary increases by 2% per annum and that immediate annuities can be bought at rates with an underlying interest rate of 8%. The pension charge for the year was £348,379 (2000: £294,277). The contributions of the Company and employees were 12.6% and 5% of earnings respectively. Contributions totalling £38,005 (2000: £36,657) are included in creditors and have been paid to the fund since the year end.

In addition, the Company also operates a defined contribution pension scheme which employees have the right to join on request after fulfilling the eligibility conditions. Contributions are made by the employees which, up to an upper limit, are matched by the company. The assets of the scheme are held separately from those of the Company and are invested by the National Provident Institution. The

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contribution by the Company for the year was £354,625 (2000: £280,382). Contributions totalling £68,958 (2000: £56,537) are included in creditors and have been paid to the scheme since the year end.

20 Reconciliation of operating profit to net cash inflow from operating activities

2001 2000 £’000 £’000

Operating profit 44,677) 36,853) Depreciation 8,147) 7,547) (Increase)/decrease in stocks (6,187) 670) Increase in debtors (745) (1,039) Increase in creditors 12,940) 3,089) Net cash inflow from operating activities 58,832) 47,129)

20 Related parties Related party transactions which require disclosure are detailed in the Directors’ Report.

This case study is reproduced with permission of Carpetright plc.

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3 Gadabout Travel Ltd Gadabout Travel Ltd (GT) organises holidays abroad for UK clients. The company charters planes and books hotels. The charter arrangements are such that the air operators include all UK transport costs, airport charges and so on in the charter price. The contracts with the hoteliers require them to deal with all local arrangements, including transfers from airports to hotels and local activities where these are a feature of particular holidays. All holidays are booked by clients and paid through UK travel agents. By having to deal only with airlines, hotels and travel agents, GT is able to be administratively streamlined and, its management believes, efficient and price­competitive.

GT’s holidays are of two types: summer beach holidays and winter sports holidays. The company charges a flat rate for all holidays, distinguishing only between the beach holidays and the winter sports ones. An unusual feature of GT’s holidays is the fact that full payment must be made with booking. Although this is unusual, GT is able to sustain this policy by being very price­competitive. The management believes that any possible loss of custom through following this policy is outweighed by the knowledge that bookings, once made, are certain from the company’s point of view.

Further information about the company and forecasts for next year are as follows:

(i) Travel agents deduct a 10 per cent commission from the full price of each holiday before remitting the other 90 per cent to the company at the time of booking.

(ii) Winter sports holidays have a cost to the customer of £350 each and beach holidays cost £300 each.

(iii) Flights and hotel accommodation are booked by GT as soon as the booking is received from a customer. Airline charges for both types of holiday are £100 per passenger. Hotel charges are £125 for beach holidays and £150 for winter sports holidays. Both airline and hotel charges must be paid in the month in which the holiday was originally due to be taken. If a holiday is cancelled by the time that payment is due to the airline and hotels, they accept 60 per cent of these amounts in respect of the cancelled places. Airline and hotel charges for later cancellations have to be made in full. It is not GT’s practice to make any refunds to its clients, irrespective of the date of cancellation. The company tends to know from experience what percentage of holidays booked is likely to be cancelled.

(iv) At 31 December this year the company has received 660 bookings for winter sports holidays. Table 1 shows the estimated bookings and cancellations.

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Table 1

Holidays booked Holidays taken Holidays cancelled Winter Beach Winter Beach Winter Beach

Pre­Jan 660 — Jan 700 150 540 — 40 — Feb 740 980 520 — 50 — Mar 120 860 790 — 70 — Apr 40 660 230 — 20 — May — 450 — 200 — 20 June — 100 — 370 — 30 July — 80 — 890 — 80 Aug — 80 — 1,070 — 90 Sept 70 50 — 600 — 60 Oct 110 — — — — — Nov 360 — — — — — Dec 400 — — — — —

The ‘Holidays cancelled’ columns of Table 1 show the month for which the cancelled holiday was intended to be taken at the time of booking. Past experience suggests that, of the holidays that are cancelled, 50 per cent will be cancelled before payment is due to the airlines and hotels, and 50 per cent will be cancelled later than this.

GT’s outline balance sheet as at 31 December this year is expected to look as follows:

£ £ Fixed assets Freehold land and buildings 210,000 Equipment and furniture 57,000

267,000

Current assets Prepaid rate 500 Cash 21,200

21,700

Current liabilities Accrued electricity 1,500 Trade creditors (660 winter sports × (350 – 10%))

207,900

209,400 (187,700) 79,300)

Share capital and reserves 79,300)

(v) Salaries at GT will be £20,600 for each month of the ensuing year. These will be paid during the month in which they are incurred.

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(vi) Electricity is expected to be the same as this year at about £1,500 each quarter, payable on 1 January, 1 April, and so on.

(vii) The business rate is also expected to be the same as this year at £2,000 in total, payable in two equal instalments on 1 April and 1 October.

(viii) Repairs are expected to cost about £100 each month, payable in the month concerned.

(ix) Depreciation is to be charged at the rate of 20 per cent on the book value of the equipment and furniture. No depreciation is to be charged on the building.

(x) Staff will incur costs for travelling on behalf of the company. These are expected to be at the rate of £3,500 each month during the months when holidays are being taken by clients. During each of the other three months, the figure will be £500.

The company has always adopted the policy of realising the profit on a particular holiday in the month in which it is taken.

Required: Prepare a month­by­month cash budget and a budgeted profit and loss account, both for next year, and a budgeted balance sheet as at the end of next year. You should also make some comments on the company’s plans and on the policy of waiting until holidays have been taken, or were due to be taken, before realising the profit on them.

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4 Pace Leisurewear (2) (Contributed by John Boston)

"Why is it that the money men undo all our good work?" asked Jill Dempsey, despairingly. Mike Greaves, the Production Director of Pace Leisurewear, decided it was best not to reply to her question: Jill had a lot of reason to be unhappy following the appointment of Peter Drake as a "company doctor" one month earlier.

Peter had been approached by Pace Leisurewear at the end of February in order to suggest a plan of action to improve the company's financial position, and events had then moved quickly. Peter was the senior consultant in Drake Management Consultants, who specialise in helping businesses with financial problems, and had been approached following some very difficult discussions with the company's bankers and the largest shareholders, the Keeble brothers. The bank had insisted that the company reduce its overdraft, which was £4.25 million at the end of December, and had written to the company in February requesting that the overdraft be halved by the end of June. At a board meeting at the end of February Jill wanted to continue to wrangle with the bank over its demands, which she felt to be unreasonable because the company was growing fast and producing large profits (£2.926 million after tax for the year to 31st December, up from £1.248 million the year before). However, David and John Keeble had decided that the company needed to introduce some outside expertise in order to turn the company round, and had looked to Drake Management Consultants firstly for advice and then, following their report, to Peter Drake himself to take an executive role. The Keeble brothers knew that Pace Leisurewear, whilst having a very talented designer of fashion clothes (Jane Barker, the Design Director) and experienced Marketing and Production directors (Jill Dempsey and Mike Greaves respectively), did not have the level of financial expertise that it required. They saw that Peter Drake was an expert who would be supported by both the company's bankers and the auditors, and they told the board that the company needed to sort itself out financially, and it could not continue to test the patience of the bankers, who had already been faced with broken promises from Pace Leisurewear, and had granted a loan to the company of £6.6 million, in addition to the overdraft.

Peter Drake made some big changes within the first month. He had a close look at both stock and debtors, with the intention of freeing up as much cash as possible, and started to implement policies to reduce working capital. He found it necessary to make provisions against some of the old stock items (mainly items from last year's fashions) which totalled £1.3 million, and he wrote off £600,000 of debtors when it was realised that two large customers were in liquidation. He stated an intention that Pace Leisurewear should work towards an ideal position where production would be undertaken only on receipt of an order (with deposit) and where deliveries would be made on receipt of cash, citing the transient nature of the "rag trade" for these tough policy aims.

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Jill Dempsey did not like the appointment of Peter Drake, especially as she was the most visible casualty of his reorganisation. She had been the Managing Director as well as Marketing Director, but was now only Marketing Director. Peter took over the Managing Director's responsibilities, along with overseeing financial matters, which were previously looked at by Mike Greaves, who had been advised by the auditors when they did their annual audit. Jill didn't trust Peter Drake when he said that all of the team should keep their areas of expertise, and felt he was out to sack her. She was also very angry by his insistence that the £800,000 dividends that were proposed but not paid at the February meeting should be cancelled: she would have received nearly £39,000 if these had been paid, and was now having to abandon her plans to move into the lovely big house that she had been wanting to buy for several years because she could no longer afford it ­ thanks to him. He didn't even know the fashion industry: she knew that customers demanded credit, and would purchase elsewhere if the company would stop giving any credit. But the worst of his decisions were the two write­offs, which took the company to a loss of £1.404 million for the quarter. "He's only been here a month, but we're now making our first ever loss ­ and he's charging us £25,000 a month to screw it up", she fumed to anyone who would listen.

Not that many did listen to her any more. Mike seemed almost relieved to concentrate only on production. Jane Barker, the only other executive director, was really only interested in her designs, and the Keeble brothers, who between them held 1 million shares in the company, were too busy with their other business interests to do any more than agree to whatever Peter suggested in his frequent telephone briefings, it seemed to Jill. She felt let down by the brothers, too: she had known them for years and they had encouraged herself and Mike to risk all their life savings and start up the company, but they had said in February that they wanted to sell their shareholding as soon as the company's prospects improved. Where was their loyalty?

Jill decided that she would demand the sacking of Peter Drake when the Board met in a couple of days. On the agenda were two topics: the plans for the next three months and the figures for the three months to the end of March, which show the loss. She added a third ­ to debate the retention of Peter Drake.

Required:

1. You are to prepare the Profit and Loss Account for the quarter to March, along with the Balance Sheet at the end of March, a statement showing in simple terms the cash movements of the period, and an analysis of the results. (Appendix 1 contains the opening Balance Sheet and last year's Profit and Loss Account, along with any other necessary information for the three months to March).

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2. You are to prepare also the projected financial statements for the quarter to June, based on the assumptions in Appendix 2, and to provide an analysis of the expected performance of both the company and Peter Drake.

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Appendix 1

Balance Sheet as at last 31 December

£000 £000 £000 Fixed assets 14,470

Current Assets Stock 5,820 Debtors 3,744 Other debtors 402 Cash at bank 0 Cash in hand 8 9,974

Creditors: amounts falling due within 1 year Trade creditors 2,612 Other creditors 402 Taxation 780 Dividends 800 Bank overdraft 4,250 8,844 Net Current Assets 1,130 1,130

15,600 Creditors: amounts falling due after 1 year Loan capital 6,600

9,000

Capital and Reserves Ordinary shares of £0.50 each 3,600 Retained profit 5,400

9,000

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(i) Profit and Loss Account for the year ended last 31st December

£000 Turnover 22,410 Cost of Sales 11,618 Gross Profit 10,792 Operating expenses 6,174 Operating profit (before interest and taxation) 4,618 Interest payable 912 Profit before taxation 3,706 Taxation 780 Profit after taxation 2,926 Proposed dividend 800 Retained profit for the year 2,126 Retained profit brought forward from previous year

3,274

Retained profit carried forward 5,400

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Further information relevant to the three months to 31st March (All numbers are in £000s)

Sales for the quarter were £6,300, and all were on credit. Cash receipts from debtors totalled £5,804. Debtor write­offs totalled £600. Purchases of stock totalled £2,800 (all on credit), and £2,790 was paid to creditors. Stock write­offs totalled £1,300. Cost of Goods Sold totalled £3,600. Operating expenses (excluding depreciation) were £900, all of which were paid immediately as incurred. This figure includes £25 for Peter Drake's salary for March. The depreciation expense was £904. There were no purchases of fixed assets, nor any disposals. Interest expenses for the period were £400. Other debtors, other creditors and cash in hand remained constant. The taxation was not due to be paid until September. The Board decided in February that no dividends regarding the previous year would be paid. The net loss for the quarter was £1,404.

Appendix 2

Further information relevant to the three months to 30th June (All numbers are in £000s)

Sales for the quarter will be £6,300, and all will be on credit. Cash receipts from debtors will total £6,650. Debtor write­offs will total £150. Purchases of stock will total £2,160 (all on credit), and £2,110 will be paid to creditors. There will be no stock write­offs. Cost of Goods Sold will total £3,600. Operating expenses (excluding depreciation) will £875, all of which will be paid immediately as incurred. This figure excludes Peter Drake's salary for the quarter. The depreciation expense will be £904. There will be no purchases of fixed assets, nor any disposals. Interest expenses for the period will be £278. Other debtors, other creditors and cash in hand will remain constant. The taxation is not due to be paid until September.

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5 Landlord: investment appraisal (Contributed by John Boston)

You have recently graduated from university and have a job with an annual salary of £20,000. You have also just inherited £20,000 from your grandmother, Granny Elsie, who stipulated in her will that you must use the money to invest in a project that will provide a good return, and which will help secure the financial future of you, her favourite grandchild. After much thinking you have decided to buy a house in the city of your university which you will rent out to students and for which you will handle all the administration and repair work, as you are planning to stay in the city for the foreseeable future, and happen to be competent at most straightforward repair work that would be necessary to maintain a house. For the purposes of this case study you can assume that you have already got suitable accommodation for yourself, and will not be planning to move into the property that you buy.

You have contacted the banks and building societies and realise that you will be able to borrow up to three times your annual salary, but will have to pay interest at half of one per cent above their normal variable mortgage rate due to the increased risk which follows from renting out a property. You do not have to borrow the full amount, and will be happy to borrow less than this maximum level if you find you have no need for it.

You have contacted the university’s accommodation office, who tells you that students want to rent properties close to the university, but who does not specify to you the best areas for renting to students. She tells you that students are looking to rent good quality properties, and that the property you rent should, ideally, be classed by the accommodation office as ‘A’ grade. She does not tell you the requirements of an ‘A’ grade, except that the property must be structurally sound and be in good condition. She does not specify the rental that you would be able to charge, nor the number of weeks a year for which rental will be receivable, but does agree that your property can be placed on their register free of charge. It is expected that a good property, in the right location, will be desired by students, and that you should be able to rent all the rooms.

The city council inform you that fire regulations apply to properties of three floors or more, but not to properties of two floors or less. Given that the fitting of fire doors, escape ladders, etc. will be extremely expensive, you decide to limit your search to properties for which the regulations will not apply.

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You will want to find a property that is structurally sound, although you are willing and able yourself to redecorate throughout the property before renting commences. If you see a property requiring structural work, you estimate that the following costs apply:

Re­roofing £3,000 Electrical rewiring £2,000 Installation of gas central heating

£3,000

Replacement of all windows and doors

£2,500

Assume that no other type of structural work would possibly be required; if a property required more than this it would not be suitable for purchase.

If you purchase a property for £60,000 or over stamp duty will be payable immediately to the government at 1 per cent of the full purchase price; if the purchase price is less than £60,000 no stamp duty will be payable.

You estimate that providing necessary furniture and fixtures and fittings will cost £5,000. You reckon on spending £700 on legal fees and £400 on survey costs before you make a purchase, which you anticipate will occur in June in order that you will have the property ready for viewings in August prior to letting commencing in September.

You are to assume that you will rent the house out for 10 years, at the end of which you will sell the property for the purchase price paid (including the structural work performed) plus the growth of 1 per cent each year, this reflecting the anticipated increase in property prices over the period. Deduct from the sales figure 2 per cent of the final sales price achieved, which will be the selling agent’s charge.

Annual costs will include insurance at £300 and repairs at £1,000.

Required:

You are to prepare an appraisal for a suitable property using the information above, making any assumptions that you consider reasonable. This will be presented along with a brief summary report and evidence supporting your assumptions – see details from your lecturer.

You will need to: 1. Identify a property that is currently on the market (hint: estate agents will give you

property details, and your local paper will have a property feature once a week) and estimate the required structural works.

2. Consider the amount of rent receivable each year. This assumption is to be backed up with appropriate evidence such as examples of rental agreements that illustrate any relevant terms and conditions, the location of the property and the number of lettable rooms.

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3. Assume that the revenues and costs identified in your first year will not change with inflation (or otherwise) during the 10­year period.

4. Ignore taxation (including MIRAS relief), water rates and Council Tax. 5. Assume that a normal variable rate mortgage is charged at a rate of 1 per cent

above the base lending rate. 6. Show the sensitivity of the appraisal to changes in the variable mortgage interest

rate. 7. Provide appropriate evidence to support your assumptions.

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6 Blue Hills Country Park (Contributed by Graham Clayton)

Blue Hills Country Park is a large leisure park situated in North Devon. It opened in Year 0 and offers a wide range of indoor and outdoor amusements for children (and indeed many parents) of all ages. Thus family groups are a prime market for the park. Blue Hills is owned and run by the Palmer family and has been built on land previously used for dairy farming. Jenny Palmer is the managing director of Blue Hills Country Park Ltd (which has a trading year end of 31 December). Her husband and father­in­law are fellow directors, but most of their time is spent running the family farm which adjoins the park.

It is now September Year 5 and Jenny has returned recently from a trip to Florida where at the Everglades Fun Park she saw the ‘Olympic Slide’ in operation. This is a dry slope toboggan run. Customers sit in small plastic toboggans, are winched up to the top of a hill and then run at some speed down an aluminium track back to the start of the ride. She was impressed by the ride’s popularity (there were large queues throughout the day) and is convinced that it would be equally popular at Blue Hills. She has spoken to the management of Gulf Stream Industries Inc. (the manufacturer and patent holder of the Olympic Slide) and has a verbal agreement with them that she could open (with a different name) such a facility in Devon. She plans to call the ride ‘The Kressta Run’ and feels that as it would be the only one of its kind in England, it would generate a 5 per cent per annum compound growth in visitors to Blue Hills. Although time is short, the Run could be built by the end of Year 5 and in operation by the start of the new year (i.e. January Year 6).

You have been asked by Jenny to advise her on the financial viability of the Kressta Run. The following information has been made available to you:

Average visitors per day in Year 5 (including an estimate for October to December): 1,050

Number of days that Blue Hills is open to the public in Year 5: 360 Entrance fee per person (all pay the same price and the amusements are then free): £4.00 Variable cost per visitor: £0.25 Fixed costs per quarter: £200,000 Staff employed at Blue Hills (40 of these are part­time): 55 Average expenditure per head by visitors in the cafeteria/gift shop: £2.00 Standard mark­up on cost price in the cafeteria/gift shop: 100%

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Details of the costs of installing the Kressta Run (all of which will attract corporation tax allowances of 25 per cent reducing balance per annum from Year 5) are:

Landscaping of ‘Top Field’ (autumn Year 5) £30,000 Aluminium track (autumn Year 5) £90,000 Cost of 60 plastic toboggans (autumn Year 5) £60,000 Conversion of barn in ‘Top Field’ to be a control centre for the Run (autumn Year 5)

£25,000

Cost of winching equipment for the toboggans (autumn Year 5)

£35,000

The management of Gulf Stream have advised Jenny that the equipment will last for four years from the start of operations. Jenny is adopting a prudent approach and feels that the equipment will have no scrap value at the end of Year 9. Gulf Stream will be charging Blue Hills a fixed amount of £40,000 per annum (Year 5 prices) for four years (from Year 6) for the patent right that covers its invention.

She estimates that four extra staff will be employed to operate the Kressta Run. They will be paid £8,000 per annum each (Year 5 prices). The annual running costs of the Run will be (Year 5 prices):

Maintenance £20,000 Electricity £10,000 Special additional insurance cover £15,000

In addition Jenny informs you that in April Year 5 the Palmers received planning permission for the barn in ‘Top Field’. This would cost £5,000 to convert and, according to Jenny, there is a local couple interested in buying the converted property at a price of £35,000 (Year 5 prices). The earliest date that the conversion and sale would be completed is the end of Year 6. (Ignore all tax implications of this property.)

There are no plans to increase the entrance fee to Blue Hills in the foreseeable future. However, staff costs and running costs (maintenance, electricity, insurance) are expected to rise by 4 per cent per annum from the start of Year 6.

Required: Advise Jenny Palmer as to whether she should proceed with this venture. You should assume, in the first instance, that Blue Hills Country Park Ltd would use a money cost of capital of 7 per cent. (You should use a corporation tax rate of 25 per cent throughout and note that the tax is payable 12 months after the end of the relevant trading year.) Would your advice to Jenny change if any of the following, mutually exclusive situations arose:

(i) visitor growth (compound) per annum was 3 per cent rather than 5 per cent, or (ii)the annual inflation rate for staff and running costs was 7 per cent rather than 4

per cent, or

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(iii) management used a money cost of capital of 10 per cent rather than 7 per cent.

You are advised to construct a spreadsheet model to aid you with this exercise. If you can get the model to work properly then you clearly understand the interrelationships (and effects) of all of the information given in the case.

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7 Homeland plc Jack Bennett, who had previously worked as a purchases manager for a large

furniture retailer, started Homeland plc fifteen years ago. His job as a purchases

manager had involved a considerable amount of travel and, during a buying trip to

Sweden, he was drawn to the product range of a particular furniture manufacturer.

Although he wanted to place a large order with the manufacturer, his employer

rejected the idea. He was convinced, however, that the furniture would be very

popular in the UK and that it was too good an opportunity to be missed. He therefore

decided to start his own business to import and sell the furniture to UK furniture

retailers.

Homeland plc was not an immediate success and during the first few years of its life

it was far from certain that it would survive. However, a breakthrough occurred when

a department store began to place large orders for the furniture. This was soon

followed by orders from other large retailers and the business then entered a period

of sustained growth. The rate of growth since the initial breakthrough has been

steady rather than spectacular. During the period from 1998 to 2002, for example,

the sales revenue of Homeland plc grew at a rate of around 5 per cent a year and

profits increased by around 6 per cent a year.

At the end of 2002 Jack Bennett was taken ill and was advised by his doctor to stop

working. He had, until his illness, been both Chairman and Chief executive of

Homeland plc and had been the driving force behind the performance of the

business. Although he had intended for his son, Daniel, to take over eventually, he

had not envisaged this happening until some years into the future. At the time of

Jack’s enforced retirement, Daniel was not even working for the business. After

graduating in marketing five years earlier, he worked in the US for a large furniture

retailer to gain experience. Nevertheless, he was asked by his father to return to the

UK and take over Homeland plc. Despite Daniel’s lack of experience of the UK

39

business environment, Jack Bennett had faith in his son and, as he was the

controlling shareholder, no one could challenge his decision that Daniel should

replace him.

The abridged financial statements for Homeland plc at the time that Jack stepped

down as Chairman and Chief executive are set out below:

Income statement for the year to 31 December 2002

£000

Sales revenue 14,945

Less: Cost of sales 10,460

Gross profit 4,485

Less: Overheads 3,010

1,475

Add income from investments 100

Net profit 1575

Less: Corporation tax 315

1,260

Less: Dividend paid 800

Retained profit 460

Balance sheet as at 31 December 2002

£000 £000

Balance sheet

Non­current assets

Freehold land and buildings 6,500

Fixtures, equipment and vehicles

net of depreciation 1,450

7,950

40

Trade investments 1,200

9,150

Current assets

Inventories 1,750

Receivables 1,340

Bank 540

3,630

Less: Current liabilities

Payables 910

2,720

Net assets 11,870

Equity

Ordinary £1 shares 2,000

Retained profit 9,870

11,870

Daniel took over the business during a period when competitive pressures in the

retail furniture sector were increasing. He soon became aware of these pressures

from the board of directors, who had all worked for the business for several years.

Once alerted to the difficulties faced by its customers, Daniel commissioned a firm of

marketing consultants to examine the trends in the retail furniture sector and to

suggest how Homeland plc should position itself to take account of changes in its

customer base. The consultants reported that the retail furniture sector would soon

go through a period of consolidation and this would mean that smaller furniture

retailers would either be swallowed up by larger retailers or would be forced out of

business. To ensure that Homeland plc was able to survive consolidation in its

customer base, the consultants argued that the business had to grow. They were

convinced that Homeland plc would be better placed to meet the needs of its

customers, who would be fewer in number but larger in size, if it were itself a much

larger business. The recommendations set out in the report of the consultants

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chimed with Daniel’s own experience in the US and so he decided that Homeland

plc had to become a bigger player in the market.

At the beginning of 2003 Daniel embarked on an expansion plan for the business

that would require both skill and nerve. He immediately doubled the size of the sales

team and set the sales director ambitious sales targets. He also entered into

agreements with a number of Scandinavian furniture manufacturers to buy large

quantities of furniture over the next three years. In order to secure the best possible

prices, these agreements had to be binding and so there was considerable pressure

on the sales force to meet the targets that had been set. During the three­year

period 2003 to 2005, Homeland plc succeeded in meeting its sales targets and

gaining greater market share. Daniel, however, was not satisfied with the progress

that had been made and felt that there was much more to be done. He was

convinced that Homeland plc needed to be an even more dominant force in the

market in order to deal successfully with the large furniture retailers.

Unfortunately, further growth was being constrained by a lack of finance. The

business had an overdraft facility, which had been exceeded many times, and the

bank was now demanding a halving of the existing overdraft balance. Daniel

decided that a new issue of shares would help to put the business back on track,

however, the existing shareholders were unable to raise the funds to buy new

shares. He therefore set up a meeting with a development capital provider, Vulturus

Ltd, to see whether it would be prepared to help fund further expansion. A meeting

between Daniel and the senior directors of Vulturus Ltd took place to consider the

proposal took place in early 2006. At the meeting, Daniel pointed out that although

much progress had been made, the business was only half way through its

expansion plans. At the meeting, he also submitted the financial statements of

Homeland plc for the three­year period since he took over from his father, and which

are set out below.

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Abridged financial statements for the 3 years ending 31 December

Income statement 2003 2004 2005

£000 £000 £000

Sales revenue 16,650 18,900 22,700

Less: Cost of sales 12,050 14,175 17,800

Gross profit 4,600 4,725 4,900

Less: Overheads 3,500 3,705 3,900

1,100 1,020 1,000

Add income from investments 100 100 ­

Net profit 1,200 1,120 1,000

Less: Corporation tax 240 224 200

960 896 800

Less: Dividend paid 800 800 800

Retained profit 160 96 ­

2003 2004 2005

£000 £000 £000 £000 £000 £000

Balance sheet

Non­current assets

Freehold land and

buildings 6,500 6,500 6,500

Fixture and equipment

net of depreciation

1,580 1,800 2,420

8,080 8,300 8,920

Trade investments at cost

1,200 1,200 ­

9,280 9,500 8,920

Current assets

Inventories 2,150 2,720 3,400

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Receivables 1,800 2,310 3,000

Cash 120 ­ ­

4,070 5,030 6,400

Less: Current liabilities

Payables 1,320 1,600 1,920

Bank overdraft ­ 204 674

1,320 1,804 2,594

2,750 3,226 3,806

12,030 12,726 12,726

Less Non­current

liabilities

Loan – (Repayable 2006) ­ 600 600

12,030 12,126 12,126

Equity

Ordinary £1 shares 2,000 2,000 2,000

Retained profit 10,030 10,126 10,126

12,030 12,126 12,126

Although Homeland plc was a public limited company, it was not listed on a

recognised stock exchange. However, Daniel was keen for the business to become

listed and felt that it should be floated immediately after the current expansion

phase was completed in three years’ time. He, therefore, saw Vulturus Ltd as

providing ‘bridging’ finance to help Homeland plc through the period leading up to a

public flotation.

The Bennett family owned most of the shares of Homeland plc and Daniel was

prepared to issue a further 100,000 shares to Vulturus Ltd to help finance the

business. He expected Vulturus Ltd to pay £8 a share. Daniel pointed out that a

similar business listed on the London Stock Exchange had a price/earnings ratio of

22 times and so the shares of Homeland plc were a real bargain that Vulturus Ltd

should snap up quickly. Daniel was relaxed about the outcome of the meeting as he

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felt that he held all the cards. The business was a great investment for those who

were able to see its potential and, if Vulturus Ltd did not see it, others surely would.

Required:

(a) Analyse the performance and position of Homeland plc over the period

that Daniel Bennett has been Chairman and Chief executive and

comment on the changes that have occurred since Jack Bennett retired.

(b) Examine the offer that has been made to Vulturus Ltd and state whether

or not you feel the offer should be accepted.

(c) What advice would you give Daniel concerning the future of Homeland

plc?